Chinese Stock Markets Reverse Losses, Other Asian Countries Lag; Vietnam Devalues Dong

Chinese stocks on Wednesday reversed a two-day drop amid an ongoing sell-off that has raised worries of larger financial contagion. Meanwhile, Vietnam devalued its currency by 1 percent in response to last week's move by China to devalue the yuan.

The Shanghai Composite Index, which saw losses of as much as 5 percent after opening, recovered to trade up 1.23 percent at closing time. The other major index, the Shenzhen Component, was up 2.18 percent. The ongoing volatility in the Chinese markets also depressed other Asian markets. Japan’s Nikkei index fell by 1.6 percent while South Korea’s Kospi index was down 0.86 percent.

Market participants said the two-day plunge beginning Tuesday was caused by traders paring down their expectations of sustained stimulus measures after the China Securities Finance Corporation said it would not intervene in the markets unless it saw unusual or systemic risk.

“Investors were disappointed that Beijing didn’t rescue the market yesterday,” Fu Xuejun, a strategist at Huarong Securities, told the Wall Street Journal. He compared the government intervention to “feeding the market with too many drugs,” adding that investors are “becoming too reliant on government stabilizing measures.”

China’s stock markets have lost 30 percent of their value after peaking in early June, triggering concerns of larger financial panic that Beijing has struggled to contain despite sweeping measures to inject liquidity into the market. Authorities have also taken steps to crack down on “malicious” market manipulation, which they have blamed for the ongoing volatility.

Regional markets have also been hurt by China’s decision last week to devalue the yuan by almost 2 percent as part of reforms meant to make the currency more competitive and enhance exports. The International Monetary Fund praised the move, stating that it could lead to a more flexible yuan, which the IMF has set as a condition for including the yuan in its Special Drawing Rights currency basket.

However, the move has triggered fears of a "currency war" with other export-oriented economies predicted to rush to devalue their currencies in a bid to stay competitive in global trade -- like the one adopted by Vietnam on Wednesday where Vietnam's central bank expanded the dong's trading band, allowing it to weaken more against the U.S. dollar.

"Following the strong devaluation of the Chinese yuan, domestic market sentiment is very much concerned with the negative impact of the United States Federal Reserve's interest rate increase," the State Bank of Vietnam said, in a statement.

Market analysis firm BMI Research told the South China Morning Post that China will have to choose between supporting the market and the yuan. “Beijing will increasingly have to choose between propping up the equity market and defending the currency from further downside pressure. They will not be able to do both,” the firm warned.

“Both the local stock market and the currency are significantly overvalued, and the veil of government support for both markets has been pierced, giving way to free market forces. We continue to expect lower equity prices and continued weakness in the yuan.”